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IRA Withdrawal Rules: All You Need to Know

By Sheryl Nance-Nash · December 05, 2021 · 5 minute read

We’re here to help! First and foremost, SoFi Learn strives to be a beneficial resource to you as you navigate your financial journey. Read more We develop content that covers a variety of financial topics. Sometimes, that content may include information about products, features, or services that SoFi does not provide. We aim to break down complicated concepts, loop you in on the latest trends, and keep you up-to-date on the stuff you can use to help get your money right. Read less

IRA Withdrawal Rules: All You Need to Know

Since the purpose of Individual Retirement Accounts (IRAs) is to allow you to save for your golden years, there are strict rules around withdrawals meant to make it harder to access that money for other reasons.

Ideally you sock away money consistently and your investment grows over time. You also get the benefit of tax breaks, but it’s important to keep the IRA rules for withdrawals in mind to make the most of your accounts.

IRA Basics

The most common types of IRAs are the Roth and the traditional IRAs. In a nutshell, generally, both types of IRAs permit you to save as much as $6,000 a year in 2021 and 2022. If you’re over age 50, you can put in an extra $1,000 per year.

Not sure how much you can contribute? Our IRA contribution calculator can help.

With a traditional IRA you deduct your contributions upfront (if your income is below a certain level) and pay taxes on distributions when you’re in retirement. In contrast, with a Roth IRA, contributions are not tax deductible, however you can withdraw money tax-free in retirement.

In an ideal world, you save your money faithfully and leave it there to grow until you’re retired. However, if unforeseen expenses come up and you need to take money out before you reach age 59 ½, you may face financial penalties. The rules for IRA withdrawals are different for Roth IRAs and traditional IRAs.

Recommended: How to Open Your First IRA

Rollover IRA Withdrawal Rules

You’ll never owe income taxes on money you contributed to a Roth IRA, since it goes into the retirement account after taxes. However, there are still some IRA early withdrawal rules to keep in mind with a Roth when it comes to the account’s growth.

The Five-Year Rule

If you have a Roth IRA, you may face penalties withdrawing funds you’ve deposited less than five years ago – known as the “five-year rule“. These Roth IRA withdrawal rules also apply to the funds in a Roth rolled over from a traditional IRA. In those cases, if you make a withdrawal from a Roth IRA account that you’ve owned for less than five years, you’ll owe a 10% tax penalty on the account’s gains.

For inherited Roth IRAs, the five-year rule applies to the age of the account, so if your benefactor opened the account more than five years ago, you can access the funds penalty-free. If you tap into the money before that, you’ll owe taxes on the gains.

Required Minimum Distributions (RMDs) on an Inherited Roth IRAs

In most cases,you do not have to pay required minimum distributions on money in a Roth IRA account. However, for inherited Roths, IRA withdrawal rules mandate that you take required minimum distributions.

There are two ways to do that without penalty:

•   Withdrawal funds by December 31 of the fifth year after the original holder died. You can do this in either partial distributions or a lump sum. If the account is not emptied by that date, you could owe a 50% penalty on whatever is left.

•   Take withdrawals each year, based on your life expectancy.

Traditional IRA Withdrawal Rules

If you take funds out of a traditional IRA before you turn 59 ½, you’ll owe regular income taxes on the contributions and the gains, plus a 10% penalty.

RMDs on a Traditional IRA

The rules for withdrawing from IRA mean that required minimum distributions kick in the year you turn 72. After that, you have to take distributions each year, based on your life expectancy. If you don’t take the RMD, you’ll owe a 50% penalty on the amount that you did not withdraw.

Avoiding the 10% Penalty

Whether you’re withdrawing from a Roth within the first five years or want to take money out of a traditional IRA before you turn 59 ½, there are some instances where you don’t have to pay the 10% penalty on your IRA withdrawals.

Medical Expenses

You can avoid the early withdrawal penalty if you use the funds to pay for unreimbursed medical expenses that total more than 7.5% of your adjusted gross income (AGI).

Health Insurance

If you’re unemployed for at least 12 weeks, IRA withdrawal rules allow you to use funds from an IRA penalty-free to pay health insurance premiums for yourself, your spouse, or your dependents.

Disability

If you’re permanently disabled and can no longer work, you can withdraw IRA funds without penalty. In this case, your plan administrator may require you to provide proof of the disability before signing off on a penalty-free withdrawal.

Higher Education

IRA withdrawal rules allow you to use IRA funds to pay for qualified education expenses, such as tuition and books for yourself, your spouse or your child without penalty.

Inherited IRAs

IRA withdrawal rules state that you don’t have to pay the 10% penalty on withdrawals from an IRA, unless you’re the sole beneficiary of a spouse’s account and roll it into your own, non-inherited IRA. In that case, the IRS treats the IRA as if it were yours from the start, meaning that early withdrawal penalties apply.

IRS Levy

If you owe taxes to the IRS, the agency may take it directly out of your IRA account. In that case, the IRS will not assess the 10% penalty. If you take the money out of the account yourself, however, to pay taxes, you’d also have to pay the 10% penalty.

Active Duty

If you’re a qualified reservist, you can take distributions without owing the 10% penalty. This goes for a military reservist or National Guard member called to active duty for at least 180 days after September 11, 2001.

Buying a House

You can use up to $10,000 from your traditional IRA toward the purchase of your first home, and if you’re purchasing with a spouse, that goes for each of you. The IRS defined first-time homebuyers as someone who hasn’t owned a principal residence in the last two years. You can also withdraw money to help with a first home purchase for you or your spouse’s child, grandchild, or parent.

In order to qualify for the penalty-free withdrawals, you’ll need to use the money within 120 days of the distribution.

Substantially Equal Periodic Payments

Another way to avoid penalties under IRA withdrawal rules, is by starting a series of distributions from your IRA, spread equally over your life expectancy. To make this work, you must take at least one distribution each year and you can’t alter the distribution schedule until five years have passed or you’ve reached age 59 ½, whichever is later.

The amount of the distributions must use an IRS-approved calculation that involves your life expectancy, your account balance, and interest rates.

Is Early IRA Withdrawal Worth It?

While there may be cases where it makes sense to take an early withdrawal, most advisors agree that it should be a last resort. That’s because by taking money out of an IRA account early, you’re robbing your own nest egg of not only the current value of the money but also future years of compound growth.

Money taken out of a retirement account now can have a big impact on your financial security in the future.

Recommended: When Can I Retire? This Formula Will Help You Know

The Takeaway

Like 401(k)s, IRAs are powerful, tax-advantaged accounts you can use to save for retirement, but it is possible to take money out of an IRA if you need it before retirement age. Even if you’re able to do so without an immediate tax penalty, the withdrawals could leave you with less money for retirement later.

Opening an IRA is a great way to make progress on your retirement savings, and there is some flexibility if you need to access the cash before you reach age 59 ½. Open an IRA account online on the SoFi Invest brokerage platform to start adding to your nest egg.

Photo credit: iStock/Fly View Productions


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